HSBC's trigger securities linked to S&P 500 could use more leverage, protection, sources say

By Emma Trincal

New York, July 6 - HSBC USA Inc.'s $49.76 million issue of 0% trigger performance securities due June 30, 2021 linked to the S&P 500 index was the third-largest deal last week, but sources said that they were surprised by the popularity of the offering given the terms of the notes.

The payout at maturity will be par of $10 plus 193.25% of any increase in the index, according to a 424B2 filing with the Securities and Exchange Commission.

Investors will receive par if the index falls by 50% or less and will be fully exposed to the decline from the initial level if the index falls beyond 50%.

"I'm not crazy about it," a market participant said. "I don't think this is such a good deal for investors."

"It's an interesting note," an industry source said. "But I don't know why it sold as well as it did to tell you the truth."

10-year tenor

The market participant focused on the low participation rate on the upside relative to the notes' duration.

"You don't even get two times leverage for a 10-year. Most leveraged deals have a much shorter maturity of 18 months or two years, and they give you two, three times leverage," he said.

"Even if you're capped, you're better off sticking to a short-term product with more leverage."

Contingent protection

Another problem, according to the market participant, is the downside protection offered through a 50% barrier, which, he said, gives investors a lower level of downside protection compared to a buffer.

Called a "contingent repayment of principal at maturity," according to the prospectus, the use or not of the protection depends indeed on the index performance.

If the final index level breaches the 50% barrier, investors no longer enjoy the benefit of downside protection and can lose up to 100% of their principal as they are subject to the same downside risk as the index, according to the prospectus.

With a buffered note, however, investors would only be exposed to any decline in excess of the buffer amount, so at least a portion of their principal remains protected, the market participant noted.

"If you have to get less than two times leverage on a 10-year term, you should get full principal protection," he said.

Downside risk

The industry source agreed that the protection could have been enhanced in the structure.

"A barrier instead of a buffer doesn't seem appealing to me," he said.

"The terms of this deal don't seem very favorable right now compared to other products out there."

In addition, this industry source saw the duration as a risk factor.

"The tenor is very long. And any time you have a barrier, you're assuming more risk. The longer you're holding it and assuming more risk, the more potential losses you have," he said.

UBS Financial Services Inc. and HSBC Securities (USA) Inc. were the agents.

The fees were 3.5%.

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